Editor's Note: For a long time, the pharmaceutical industry in general shows the characteristics of the “buyer's market”, medical institutions and doctors enjoy the absolute right to say about the drugs, coupled with the existence of a large number of generic drugs in the pharmaceutical industry, drug substitutability is strong, the pharmaceutical companies have to promote the way to complete the sale of drugs. In the process of purchasing promotion services for pharmaceutical enterprises, their intention is to sell drugs to the terminal medical institutions through legal and compliant promotion, but the promoter deviates from the agreement with the pharmaceutical enterprises, taking the means of sales with gold to complete the promotion, in this case, the pharmaceutical enterprises to obtain the promotion of invoices can be deducted for pre-tax deduction? This article is intended to combine a real case to discuss.

I. Case introduction: a pharmaceutical company to obtain the upstream false invoices for promotion costs are required to make tax adjustments

(i) the basic case:

Enterprise A is a biopharmaceutical company, its main business is the production of generic T drugs, and sold to major medical institutions. Because the active ingredients, route of administration and therapeutic effects of generic drugs and T drugs are very similar, and there are also a large number of drugs on the market with the same effect, the medical institutions and doctors have a high degree of selectivity, and Enterprise A has to promote the drugs in order to sell the generic drugs it produces to the terminal medical institutions. Therefore, in the process of selling drugs, Enterprise A purchases promotion services from a drug promoter, and agrees that the promoter will promote generic drugs to medical institutions and doctors all over the country, and at the end of each year, Enterprise A assesses the effect of the promoter's completion of the promotion services, and the assessment indexes include the number of medical institutions developed by the promoter, and the ratio of increase in the orders for generic drugs after the signing of the promotion contract, etc. Based on the completion of the indexes, Enterprise A settles the promotion service fees with the promoter, and the promotion service fees are paid by the promoter. Based on the fulfillment of these indicators, Enterprise A settles the promotion service fees with the promoter and obtains general invoices for the promotion services issued by the promoter. However, in the actual promotion process, the promoter completed the drug promotion by providing commercial bribes to the medical institutions.

Recently, the tax authority of the Promoter made a Tax Treatment Decision, which determined that the invoices issued by the Promoter were falsely issued, and issued a Notification of Confirmed False Invoicing and a Letter of Concurrence to the downstream tax authority.Upon receipt of the aforesaid materials, the tax authority in charge of Enterprise A made a Tax Treatment Decision to Enterprise A, which determined that the ordinary invoices for promotional services obtained from the Promoter were falsely issued, and issued a Tax Treatment Decision to the competent authority of Enterprise A, with a <Announcement on the Issuance of Measures for the Administration of Vouchers for Pre-tax Deduction of Enterprise Income Tax (SAT Announcement No. 28 of 2018, hereinafter referred to as the “Announcement No. 28”), Article 12, “Enterprises obtaining false invoices issued by the promoter, such as ...... and other non-compliant invoices, are not in conformity with the regulations. ...... and other non-compliant invoices shall not be used as pre-tax deduction vouchers”, requiring Enterprise A to adjust the amount of enterprise income tax by RMB55 million and pay additional enterprise income tax of RMB13.75 million and late payment fees.

(ii) Views of Tax Authorities

In this case, the competent tax authorities of Enterprise A determined that the invoice obtained by Enterprise A from the promoter was fraudulently invoiced for the following reasons: the upstream tax authorities made a Tax Treatment Decision that the invoice in question was fraudulently invoiced; and the upstream tax authorities forwarded the audit trail to make it clear that the promoter did not provide legitimate promotional services, but rather, it committed the act of commercial bribery. The tax authority of the promoter considered that the evidence was sufficient to prove that the invoices issued by the promoter were inconsistent with the actual business provided by the promoter, and that the invoices in question belonged to the false invoices stipulated in the Measures for the Administration of Invoices, and that the false invoices obtained by Enterprise A were non-compliant deduction vouchers, which could not be deducted before tax in accordance with the Announcement No. 28.

(iii) Viewpoint of Enterprise A

Enterprise A believes that what it purchased from the promoter is the promotion service, and it did not instruct the promoter to implement the commercial bribery behavior, and the promoter has nothing to do with the promotion by means of commercial bribery, and it really incurred the expenses, which should not be affected by the behavior of the promoter, and it can be deducted before tax in accordance with the law.

(iv) Focus of Dispute

There are two points of contention between the tax enterprises:

First, whether the corresponding expenses can be deducted before tax if the invoices are characterized by the upstream tax authorities as false invoices?

Secondly, if the promoter adopts unlawful behaviors such as commercial bribery, does it mean that the service between the promoter and Enterprise A is not established, which in turn affects the pre-tax deduction of Enterprise A?

II. Legal analysis of the case at the substantive level

(i) Is it inevitable that the expenses incurred in obtaining false invoices cannot be deducted before tax?

Article 8 of the Enterprise Income Tax Law provides that “reasonable expenses actually incurred by an enterprise in connection with the acquisition of income, including costs, expenses, taxes, losses and other expenses, shall be deductible in the calculation of taxable income”. Article 29 of the Regulations for the Implementation of the Enterprise Income Tax Law provides that “the costs referred to in Article 8 of the Enterprise Income Tax Law refer to the cost of sales, cost of goods sold, business expenses and other consumptions incurred by an enterprise in the course of its production and business activities”. According to this provision, the basic principles of pre-tax deduction for enterprise income tax are authenticity, relevance and reasonableness, and enterprises are not required to obtain statutory deduction certificates.

In terms of legal status, Circular 28 is a normative document formulated by the State Administration of Taxation, which is lower than the Enterprise Income Tax Law formulated by the National People's Congress and the Regulations for the Implementation of the Enterprise Income Tax Law formulated by the State Council, so it cannot break through and exceed the basic principle of pre-tax deduction set by the previous law. The restriction of taxpayers' rights should be premised on the legislation of the National People's Congress, and the requirement of Circular No. 28 that the pre-tax deduction must be based on legal certificates is suspected of restricting the taxpayers' rights and exceeding the basic principle of pre-tax deduction stipulated in the higher law. Therefore, even if an enterprise obtains a false invoice, it should review whether the enterprise's expenditure is real, reasonable and relevant according to the provisions of the previous law, and should be allowed to make pre-tax deduction if it conforms to the principle of three-ness.

From the point of view of tax enforcement and justice, some tax authorities in practice believe that as long as the expenses are in line with the three principles of the Enterprise Income Tax Law, they can be deducted before tax, and the invoice is not the only pre-tax certificate. For example, in the case of an electric company obtaining false general invoices, although the electric company obtained general VAT invoices issued by Nanning Labor Service Company, an upstream enterprise, which was characterized as false invoicing, the invoices involved in the case did not have any abnormalities in the transaction of funds, and the business involved in the case was real, and the tax authorities allowed the electric company to deduct 17,838,300 yuan for pre-tax deduction of the expenses involved in the false invoices in accordance with Article 8 of the EIT Law. The tax authorities, in accordance with Article 8 of the Enterprise Income Tax Law, allowed the company to deduct 17,838,300 yuan as pre-tax deduction.

Some judicial organs also held that there was no necessary relationship between false invoices and pre-tax cost deduction, and that even if false invoices were obtained, they could be deducted before tax. For example, in the case of China 22 Metallurgical Group Co., Ltd. and Tangshan State Taxation Bureau Inspection Bureau and Hebei State Taxation Bureau Administrative Penalty, the court of first and second instance held that “the reasonableness of the wages of the employees of the enterprise and the legality or otherwise of the source of the wage funds are not necessarily related, and that the Plaintiff's act of obtaining the funds of the enterprise through false invoices and violating the law does not necessarily lead to the Plaintiff's use of the obtained funds to pay wages to the employees in violation of the law. The Plaintiff's illegal behavior does not necessarily lead to the Plaintiff's illegal use of the funds obtained to pay wages to employees. Article 8 of the EITL provides that expenses actually incurred by an enterprise in connection with the acquisition of income and which are reasonable, including costs, expenses, taxes, losses and other expenses, are allowed to be deducted in calculating taxable income. The $145,422,763.12 salary expenses at issue in this case are costs that objectively exist in the plaintiff's production and operation, and the defendant's denial of the reasonableness of the payment of salaries for the employees based on the unlawfulness of the source of that funding is both inconsistent with Article 8 of the Enterprise Income Tax Law of the People's Republic of China and also suffers from a lack of evidence in a major way.”

In summary, the author believes that even if the invoices issued by the promoter obtained by Enterprise A are characterized as false invoicing, it is not enough to directly negate the right of pre-tax deduction of Enterprise A. The expenditures of Enterprise A should be further examined as to whether they satisfy the requirements of authenticity, relevance and reasonableness of the Enterprise Income Tax Law, and the expenditures that satisfy the three qualities should be allowed to be deducted before tax.

(ii) If the promoter adopts illegal means to complete the promotion service, can Enterprise A's promotion service expenditure be deducted before tax?

The theory of non-causality originates from the property law, which means that the legal effect of the claim behavior and the property right behavior is determined by itself, and the effect of the property right behavior is not affected by its cause behavior, i.e., the claim behavior, when the claim behavior is not established, revocable, or invalid, the property right behavior can still be based on the validity of the establishment of the right to change the effect of the property right. The theory of non-causality is of great significance in protecting the interests of bona fide third parties and maintaining the stability of transactions.

As far as promotion services are concerned, the current VAT Law and Enterprise Income Tax Law do not provide a precise definition of promotion services, and there are no mandatory provisions on the elements of promotion services. In reality, the fundamental purpose of pharmaceutical enterprises in purchasing promotion services is to increase the popularity and influence of the drugs and thus promote the sales of the drugs. Therefore, for pharmaceutical enterprises, they do not pay attention to the means, methods and process of promotion, but mainly pay attention to the efficacy and results of the promotion, and when purchasing the promotion services, the manner in which the promoter completes the services does not belong to the scope of the two parties' considerations, i.e., the manner of promotion is not an integral part of the consent of promotion services, and is not a part of the agreement of promotion services. In other words, the mode of promotion is not an integral part of the agreement on promotion services and does not belong to the core elements of the legal relationship of promotion services. Therefore, the promotion service itself does not include the way of promotion, no matter the promoter to advertise, preaching, meeting way to complete the service, or by lobbying to complete the service, or even rely on their own social relations, commercial bribery and other ways to complete the service, have nothing to do with the promotion service itself. In the author's opinion, the uncaused nature of the promotion service should be recognized, and whether the promotion method is legal or not does not affect the establishment and effectiveness of the legal relationship of the promotion service.

In this case, enterprise A really to promote the procurement of promotional services, promotional services to reach a consensus on the promotion of the promoter's promotion, and not in the scope of the contractual agreement on promotional services, also does not affect the establishment and effectiveness of promotional services, the promotion of the promoter to promote the use of illegal methods, is not the same as the promotion of the implementation of the promotional, the promoter to take the means of commercial bribery to complete the promotion of the task, does not affect the authenticity of the promotional services, the A enterprise procurement of promotional services, expenditure of promotional services to meet the cost of the promotional services. Therefore, the fact that the promoter used commercial bribery to accomplish the promotion task does not affect the authenticity of the promotion services.

III. Legal analysis of the procedural level of the case

(i) Is the procedure of the competent tax authorities of the Promoter in making the Decision on Tax Treatment legal?

According to the Measures for the Administration of Invoice Co-Investigation in Tax Violation Cases (for Trial Implementation) (Tax General Issue [2013] No. 66)

Article 7, “If the entrusted party determines the object of co-investigation based on the investigation and handling of the case and needs to initiate the entrusted co-investigation, it shall issue a Letter of Co-Investigation on Tax Violation Cases to the entrusted party. The content of the Letter of Concurrence in Tax Violation Cases includes: the name of the entrusted party's case, the basic facts of the case, the information recorded in the invoice involved in the case, the suspicions or clues that have been grasped, the modus operandi of the case, the proposed targeted forensic requirements, the deadline for reply, the requirements for organizing the file and sending it to the entrusted party, the contact person and the contact information and so on”, and Article 10, ”After the entrusted party has received the Letter of Concurrence in Investigation Article 10, “After the commissioning party receives the reply letter of concurrence, it shall investigate and deal with the subject of investigation according to the information in the reply letter of concurrence in accordance with the law”.

According to this provision, in the process of investigating and dealing with false invoices, the upstream tax authorities shall send the “Letter of Concurrence on Tax Violation Cases” as well as relevant evidence and information to the tax authorities of the invoiced enterprises, in which the “Letter of Concurrence” only contains suspicions and clues, and does not contain the characterization of the invoices. After receiving the materials sent by the upstream tax authority, the tax authority of the invoiced enterprise shall, according to the request for co-investigation, independently, comprehensively and objectively collect evidence, investigate the facts of the case, investigate the case in accordance with the statutory authority and procedures, and reply to the letter in accordance with the requirements and deadlines, and, if the invoiced enterprise does not have any tax violation, issue a reply letter to the upstream tax authority that there is no tax violation, and then the upstream tax authority shall issue a letter of no tax violation according to the downstream tax authority. The upstream tax authority will then qualify the case based on the reply letter from the downstream tax authority and other evidence materials.

In this case, the competent tax authority of the promoter, after issuing the Decision on Tax Processing to the promoter, sent the Decision on Tax Processing together with the Letter of Concurrence on Tax Violation Cases to the tax authority of Enterprises A. This is essentially a request for the downstream tax authority to conduct concurrent investigations to determine whether or not there is any violation of the law on the invoices that have already been recognized as fraudulent invoices, which is caught in the logical fallacy of circular reasoning, which is not only contradictory, but also violates the legislative purpose of the provisions on concurrence on tax violation cases of invoices. This is not only contradictory, but also violates the legislative purpose of the provisions on tax co-inspection in invoice violation cases. Therefore, the promoter's tax authority violated the procedure by issuing the Decision on Tax Processing to determine whether the invoice was illegal without the downstream tax authority's investigation and reply letter.

(ii) Is the procedure of the competent tax authority of Enterprise A in making the Decision Letter on Tax Treatment lawful?

According to Article 15 of the Administrative Measures for Co-Investigation of Invoice in Tax Violation Cases (for Trial Implementation) (Tax General Issue [2013] No. 66), “In any of the following cases, the entrusted party shall file a case for inspection in accordance with the relevant provisions of the Procedures for Handling of Tax Audit Cases: (1) The entrusted party has issued the Notice of Confirmed Defalse Invoicing”, and according to the Provisions on the Procedures for Handling Tax Audit Cases, Article 37 of the Provisions on the Procedures for Handling Tax Audit Cases. According to Article 37 of the Provisions on Procedures for Handling Cases of Tax Audit, “The audit shall focus on reviewing the following: ...... (iii) whether the facts of tax violation are clear, whether the evidence is sufficient, whether the data is accurate, and whether the information is complete; (iv) whether the applicable laws, administrative regulations, rules and other normative documents are appropriate and whether the characterization is correct”. Whether the characterization is correct”.

According to this provision, the Notice of Proven False Invoicing in this case is not a conclusive instrument to characterize the invoice in question as false invoicing or non-compliance, but is an internal circulation instrument for the suspected violation of law of the invoice in question. the competent tax authority of Enterprise A should file a case for inspection after receiving the Notice of Proven False Invoicing made by the tax authority of the promoter, rather than characterizing the invoice in question as false invoicing or non-compliance directly. The tax authorities shall make conclusions by objectively and comprehensively reviewing the business conduct and evidential materials, and correctly and independently applying laws, regulations, rules or other normative documents. In this case, the competent tax authority of enterprise A has not fully investigated and verified the evidence and information submitted by enterprise A to make a qualification, which is also a procedural violation.